Realizing the Potential of Asia's Developing Economies, By John Lipsky, First Deputy Managing Director, International Monetary Fund

March 22, 2010

By John Lipsky, First Deputy Managing Director, International Monetary Fund
Hanoi, March 22, 2010

Good morning. It’s a great pleasure to be here, and to have the opportunity to address the important topic of boosting growth and reducing poverty among Asia’s developing economies. As you all know, this is the world’s most dynamic region. And yet, there are still large income disparities and poverty remains a significant problem. A great challenge is to ensure that all Asians benefit from the region’s dynamism, and to insure that rising prosperity reaches as many of the region’s citizens as possible. Today’s conference will address these challenges, among other topics.

Asia after the crisis

The global economic and financial crisis had a dramatic effect on the global economy, reducing 2009 global output by 1 percent. It is our responsibility to overcome this setback, but also to learn the lessons that this experience can teach us. For example, it was made clear that we live in an integrated world, where actions in one country, one sector, or one market can reverberate quickly around the world. This lesson also holds for the journey back to normalcy. Thanks to aggressive anti-crisis policy action, delivered in an unprecedented demonstration of global cooperation, global growth is expected to bounce back to about 4 percent in 2010 and to around 4¼ percent in 2011.

Asia is benefiting directly from this rebound, while at the same time the region’s vitality is helping to lead the way toward stronger global growth. Just as the region suffered from a sharp drop in international trade and finance flows during late 2008 and early 2009, so the region is benefiting from the emerging global recovery. For example, net portfolio capital inflows surged to close to historical highs by the end of 2009, compensating in large part for the sudden stop of capital flows—including bank loans and direct investment—that was associated with the crisis.

A second key driver of the Asian recovery is home-grown, and reflects the region’s rapid, forceful, and comprehensive anti-crisis policy response. This response was facilitated by strong pre-crisis foundations—across the region, fiscal positions were sounder, monetary policies more credible and corporate and bank balance sheets sturdier than at any time in the past. Asia’s response to earlier crises left it better prepared to respond to another—after all, many of these improvements were implemented in the aftermath of the 1997-98 dislocations. The post 1997-98 reforms provided Asian governments the opportunity last year to cut interest rates sharply and to implement large fiscal stimulus packages without creating dangers of policy excesses.

Overall, emerging Asia is expected to grow by 8½ percent this year, led by China and India. Reflecting regional interlinkages, Asia benefitted from China’s striking resilience to the crisis. China cushioned an export collapse with strong domestic demand, lifting credit constraints and implementing an exceptionally large fiscal stimulus. Others reaped rewards from China’s stimulus, including those relying on commodity and capital goods exports.

What about Asia’s developing countries? Happily, the news on this score is good. In general, these countries weathered the crisis well. Their economies slowed less than in emerging Asia, partly reflecting their more limited integration into the global economy. Their exports to advanced economies held up better, as they relied less on high-value added advanced manufacturing exports and more on textiles and low-end manufacturing. They also did not depend as much on private capital flows. At the same time, countercyclical macroeconomic policy played a role in supporting activity. Some countries—such as Cambodia, Sri Lanka, and here in Vietnam—loosened monetary policy. Some chose fiscal stimulus, including Bangladesh, Sri Lanka, and Vietnam.

While the region’s story is very much a positive one, it should not be forgotten that significant numbers of the region’s citizens remain poor or vulnerable. In developing countries, even small economic dislocations can provoke substantial challenges. When jobs are lost, when remittances are cut off, and when food prices soar, poverty will increase and social indicators will worsen. This is true as well in many emerging economies, where income disparities are large and there are still sizeable pockets of poverty.

Before the crisis, poverty in Asia had fallen dramatically. According to the World Bank, the number of East Asian citizens living in dire poverty—earning less than $2 a day—had fallen below 500 million on the eve of the crisis, down from a billion in 1990. This dramatic improvement in living standards in such a short period of time was unprecedented in world history. But the recent crisis pushed an estimated 14 million Asians back into poverty. Agricultural poverty is a particular problem, partly reflecting a widening gap between urban and rural incomes.

Moving the agenda forward

At a fundamental level, Asia’s developing countries are qualitatively different from their counterparts in other regions. Living standards are higher, populations are less marginalized, and the middle class is more prominent. On a continuum, they lie somewhere between low-income countries and emerging markets—I like to call them “verging on emerging” markets.

These countries are increasingly becoming integrated into a vibrant regional trade network that holds great promise. In fact, one of the critical factors behind Asia’s rise over the past two decades has been the historic regional trade integration. If we look at the pre-crisis period, trade flows outside emerging Asia tripled between 1990-2006, while inter-regional trade involving emerging Asia rose by a factor of five, and intra-regional trade within emerging Asia increased by 8.5 times. Emerging Asia’s growth was driven by trade in intermediate goods, reflecting vertical specialization. A sophisticated production network arose, facilitating “catch-up” through technology transfers, with China at the center, as a destination for intra-regional exports and the region’s leading export platform.

Asia’s developing economies are very well poised to step into this production nexus and to move up the value chain. This was the path taken by today’s dynamic emerging markets, and I see no reason why the region’s “verging on emerging” economies should not follow in their footsteps.

Of course, Asian economies can only make this leap if they address key policy challenges.

First, sound growth must be built on a foundation of macroeconomic stability. Despite generally good performance in this regard, some threats remain. In some countries, fiscal deficits and public debt are large, credit growth and inflation are high, and international reserves are low. As the recovery takes root, it will be important to rebuild policy buffers and to further improve financial sector soundness.

Second, structural reforms should take priority to help boost competitiveness and to facilitate developing Asia’s entry into the regional and global trade network. Needless to say, openness to trade remains essential. And strengthening financial markets would ensure a better allocation of capital, while providing savings vehicles that will help to raise household income.

Third, boosting long-term growth requires investment in infrastructure. There are still large infrastructure gaps in developing Asia, especially in areas such as transport, energy, and communications. The Asian Development Bank estimates that Asia-Pacific countries need to invest about $8 trillion over the next decade. Such investment not only would boost productive potential, but would also help to fight poverty, including in rural areas.

Fourth, countries need to strengthen social safety nets. Some Asian countries were able to cushion the impact on their most vulnerable citizens from the recent slowdown by providing social transfers. Vietnam, for example, already had social protection measures in place, while Cambodia and Laos partnered with donors and Civil Society Organizations on cash- and food-for-work programs. However, while institutional capacities and fiscal space vary widely across countries, more should be done across the board to protect the poor and vulnerable and to raise access to basic public services, including health care.

Beyond sound policies, developing countries will require sustained access to financial resources, to support needed development spending, but also to address the vulnerability of developing countries to economic shocks from a variety of sources—including commodity price swings and natural disasters.

Of course, one of the greatest long-term risks facing the developing world is that posed by climate change. And Southeast Asia is one of the regions most vulnerable to climate change, given its long coastlines, its coastal concentrations of people and activity, and its reliance on agriculture, natural resources, and forestry. The incipient effects of climate change already are notable, exacerbating water shortages, threatening food security, and increasing health risks. If nothing is done, Southeast Asia could lose the equivalent of 6¾ percent of GDP each year by the end of this century, more than twice the global average loss.

Clearly, the region must take action to mitigate and adapt to the effects of climate change. But this is a global challenge, and it requires a collective approach. The IMF’s Managing Director recently called on the international community to marshal the resources needed to help developing countries overcome the challenge of climate change. The Copenhagen Accord suggests that $100 billion a year will be needed by 2020, over and above existing aid commitments. This is why IMF staff is developing a proposal for a Green Fund that could raise this amount by 2020. Launching such a scheme will not be easy, and it will require subsidy resources from developed countries—perhaps from carbon taxes and expanded carbon trading mechanisms. But the potential pay-off would be profound.

Role of the IMF

The IMF was proactive in helping developing countries cope with the recent crisis, and we are looking at how we can enhance our ability to support global growth and stability. For one thing, the Fund’s financing facilities have been modernized to better meet the varying needs of our low-income members when faced with shocks and macroeconomic volatility, and as they seek to accelerate growth and reduce poverty.

What have we done? To start, we are more than doubling the total resources available to low-income countries through 2014 to $17 billion. In 2009, we committed $3.8 billion in concessional resources to low-income countries, up from $1.5 billion in 2008 and only $276 million in 2007. Moreover, the terms of our lending have been made more attractive: zero interest will be charged on concessional lending through the end of 2011, and even beyond this, interest rates will be more concessional than before. The IMF’s membership also supported a $250 billion increase in Special Drawing Rights—reserve assets that can be tapped on demand. For low-income countries, this meant an additional $18 billion in resources that can be used to shore up reserves or, if reserves are adequate, to relax financing constraints.

We also revamped our financial toolkit to tailor our lending to the needs of an increasingly diverse group of developing countries. Especially in the Asian context, we know that developing countries are not alike, and that the challenges they face change as they move up the development ladder. Thus, we provide different facilities for different needs. The Extended Credit Facility (ECF) provides flexible medium-term support, designed for countries with protracted balance of payments problems requiring longer-term adjustment. In contrast, the new Standby Credit Facility (SCF) is designed for short-term and precautionary needs, and carries concessional terms. This facility is suitable for countries with sustainable macroeconomic positions that are facing short-term financing needs. Finally, the new Rapid Credit Facility (RCF) provides emergency support with limited conditionality, and can be used to deal with shocks from a variety of sources

We also have moved toward less intrusive conditionality, focusing only on core policy measures that are critical for stability, growth, and poverty reduction. And our loans no longer include binding conditions on structural measures, but instead provide greater flexibility to our member countries with regard to how they meet their structural goals.
Our recent programs have been flexible in supporting domestic countercyclical policies. During the 2008 food and fuel price crisis, we revised program inflation targets to accommodate sharply rising prices. And in the recent global downturn, programs accommodated higher budget deficits where appropriate. We also work with our members to ensure that Fund-supported programs protect or expand social spending and pro-poor initiatives.
Reflecting the diverse nature of developing countries, we also have adopted a more flexible approach to debt in Fund-supported programs. Countries with lower debt vulnerabilities and a demonstrated capacity to manage public resources will have greater leeway to borrow from a broader range of sources, including non-concessional ones. This should help countries address critical infrastructure deficits while preserving debt sustainability.

Of course, preventing crises is preferable to responding to them. One point the crisis brought home clearly is that both spillovers between countries and the intersection between macroeconomic and financial stability are critical. And so we are refocusing our surveillance to hone in on these areas, in order to help our members reduce vulnerabilities and to avoid crises.
The IMF also provides extensive technical assistance to developing countries. This activity may not be highly visible, but it is extremely important. To secure robust growth and poverty reduction, many countries need to strengthen institutions and build capacity. IMF technical assistance provides a vital role in this regard, with a particular emphasis on public resource management. We have numerous regional technical assistance centers throughout the world, including one in Fiji. We also operate several highly-respected regional training institutes and programs, including in China, India, and Singapore.

One final point: To be truly effective, the IMF must be seen as reflecting in a fair way the interests of all our members. Political leaders have endorsed a quota shift toward dynamic emerging market and developing countries, to be agreed by January 2011. No doubt, this process will reflect the enhanced importance of Asia’s dynamic economies.

Conclusion

Asia has a bright future. The region’s developing countries should be central participants and beneficiaries, tapping into Asia’s dynamic production nexus, and by moving up the ladder. To manage this transition smoothly, however, the necessary preconditions must be in place. This means establishing and sustaining macroeconomic stability while reducing infrastructure deficits and strengthening social safety nets. Structural reforms will help increase resilience to shocks—including the emerging challenge of climate change.
Meeting these challenges will not be easy, but the international community wants to help. The IMF is focused on enhancing cooperation with its Asian partners, with the goal of enhancing the region’s future. In an increasingly integrated world, a prosperous and stable Asia is in everyone’s best interest.
Thank you.

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